7 Tough Lessons For The Next Generation

Lesson #2. Beware of False Recoveries

If you see another deep, multi-year bear market in your lifetime, don’t assume it’s over just because people say it is.

Bernard Baruch and J. Irving Weiss -- among the few who anticipated the great bear markets of the 1930s and profited from their foresight.
Bernard Baruch and J. Irving Weiss — among the few who anticipated the great bear markets of the 1930s and profited from their foresight.

Typically, a secular decline in the stock market and major woes of the economy do not happen all at once. They take place in phases, and at the end of each phase you will inevitably hear voices — sometimes loud, sometimes not — that “the worst is over.”

That’s what we experienced after the crash of 1929.

The market rallied sharply into April of 1930, and only a small minority — including Bernard Baruch and me — recognized that the first phase of the market’s decline was just the beginning of a long and arduous period in our history.

Nearly everyone in Washington and on Wall Street was convinced a new bull market was on its way or that prosperity was just around the corner. They were wrong.

Most learned their lesson the hard way. And strangely, some still didn’t get it.

Indeed, just a few years later, in the middle of the 1930s, it happened again. In response to massive government attempts to revive the economy, the Dow Jones Industrials rallied sharply. Again, the pundits prematurely declared the end of the crisis. Again, investors were trapped, as the Dow plunged into its second major bear market of the century.

It took us many years to figure it all out. But by the end of the decade it was blatantly obvious: Once the backbone of the stock market and economy was broken in the crash, it took decades to repair.

We eventually learned that the short-cuts governments typically seek, like pumping in money, seem to work at first. But then they backfire.

Lesson #3. Inflation Is Never “Totally Dead”

Years ago, everyone thought double-digit inflation would continue forever.

Martin and I said these forecasts were off base; and we told subscribers, over and over again, to expect deflation.

The warning signals were everywhere — interest rates far in excess of inflation, huge supply gluts around the world, and a speculative bubble in commodities which was ready to burst wide open.

But very few believed us; some said we were “nuts.” Their entire financial life — including their homes, art and other collectibles, bullion and coins, gold shares and even traditional investment portfolios — was 100% predicated on the idea that inflation would last forever.

Boy, did they get the shock of their lives when prices came crashing down! In the years that followed, most commodities and other hard assets lost half of their value — sometimes more. Everyone who bet on inflation got clobbered.

But just when everyone is saying inflation is dead — that’s when you need to start worrying about inflation again. Inflation never dies. It merely goes into a deep sleep. When it reawakens, you’d better watch your step.

At that juncture, some of the biggest speculative bubbles to watch out for are not in commodities; they’re in stocks and bonds. Values are grossly inflated. The amounts investors pour in are simply far beyond what they can afford to risk.

Lesson #4. Don’t Forget the Rest of the World

In the early 1950s, I took my family to Central and South America to live for a few years. Our three children, Linda, Joe, and Martin, went to local schools and learned Spanish and Portuguese. I even explored the central highlands of Brazil, near where Brasilia would be built years later.

It was a great experience, and I’ve been watching events around the world ever since.

I was convinced that the three giants of Latin America — Mexico, Brazil, and Argentina — would become economic powerhouses.

But never, in my wildest dreams, did I expect to see the distortions so strikingly obvious in their economies: Big debts. Over-reliance on foreign capital. Horrendous discrepancies in the distribution of wealth. It made me cringe to see what was done to these potentially great countries and their citizens.

What makes me cringe even more, however, is to see how our own country has sometimes followed a similar path. We are overburdened with debts, both domestic and foreign. We have become overly dependent on a continuing flow of savings from outside our borders.

Back in 1941, I helped write and publish a book “Japan and America Must Work Together.” The timing couldn’t have been worse, and due to an uproar over the book after Pearl Harbor, we had to withdraw it from circulation. But our premise was very sound: The two economic giants were natural trading partners back then and they’re even more so today.

There was another kind of partnership, however, that we never anticipated: American families have emerged as the leading spenders of the world; while their counterparts in Asia are among the world’s leading savers. As a result, they rely on America’s consumers to buy their products, while we rely on them as a big source of capital to finance our deficits.

This is not a healthy situation for two reasons: If American spenders reduce their spending … or their savings are directed elsewhere, both could find themselves in deep trouble.

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